Declining food prices spark global deflation risk fears

Doha, August 23, 2014

International food prices have been declining in recent months, reflecting record harvests and weak global demand.

Declining food prices have in turn contributed to lower inflation in the Eurozone, the United Kingdom (UK) and the United States (US).

This trend, coupled with a weak Eurozone recovery and mixed economic data in the US, suggests that the risk of global deflation remains high, according to a report by Qatar National Bank (QNB).

As such, we expect the European Central Bank (ECB), the Bank of England and the Federal Reserve to keep to record-low interest rates for an extended period of time. Qatar’s policy rates are likely to follow suit, it stated.

Since the peak in 2011, global food prices have dropped significantly, largely in response to recent bumper harvests. According to the International Monetary Fund (IMF), maize prices have fallen 41 per cent since their peak in 2011.

Over the same period, rice prices have fallen nearly 31 per cent and wheat prices have declined 20 per cent. These large declines are feeding into lower food prices for consumers around the world, said the report.

While lower food prices would normally be a good thing as they lower living costs, this decline comes at a time when inflation is already very low in advanced economies and could turn inflation negative, namely deflation.

This is a cause of concern as deflation increases the real value of outstanding debts in the economy which can in turn reduce the available income available for consumption and lead to lower growth, stated the Qatari lender in its report.

Looking ahead, the IMF is projecting a further decline in global food prices (averaging -3.8 per cent in 2014-15) on record yields. The global food production outlook continues to remain favorable, with the supply of major grains and oilseeds projected to surpass demand growth for the next two years.

Furthermore, China expects increased production of corn and wheat as a result of favorable weather while global rice supplies continue to be plentiful.

For the global economy, lower food prices for the next 18 months could mean a higher risk of deflation. Food prices account for only 10 per cent-15 per cent of the inflation basket in advanced economies, but they can reach 30 per cent-40 per cent in emerging markets and developing countries, said the QNB report.

In Qatar, whilst rising rents continue to push up domestic inflation, this has been partly offset by falling food prices. Food inflation in the country peaked at an annual increase of 5.9 per cent in June 2011 and has since slowed to a negative 0.6 per cent in June 2014.

Since the country has virtually no domestic food production, lower international food prices are likely to continue to push Qatar’s food prices lower for the foreseeable future, albeit with a lag. This means that Qatar’s inflation should remain moderate at around 3.5 per cent at least until the end of 2015, said the report.

According to QNB, historically low inflation in the EU, the UK and the US is likely to mean that central banks will keep interest rates at historic lows for a prolonged period of time to avoid the risk of deflation.

A pause in tightening monetary policy in the US would also have the added benefit of bringing greater stability to global financial markets, which have been unraveled by the tapering of quantitative easing since May 2013. Qatar’s interest rates are likely to follow US policy rates, given the peg to the US dollar, said the Qatari bank in its report.

Overall, the risk of global deflation remains high as bumper harvests and a weak global recovery have pushed down inflation to record lows. This is likely to keep global interest rates low for the foreseeable future, it added.-TradeArabia News Service